DP4503 Efficiency Wages Revisited: The Internal Reference Perspective

Author(s): Jean-Pierre Danthine, André Kurmann
Publication Date: August 2004
Keyword(s): efficiency wages, reciprocity, rent-sharing, wage rigidity
JEL(s): E24, E32, J50
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=4503

The missing wage rigidity in general equilibrium models of efficiency wages is an artifact of the external wage reference perspective conventionally adopted by the literature. Efficiency wage models based on an internal wage reference perspective are capable of generating strong wage rigidity. We propose a structural model of efficiency wages that is broadly consistent with the reported evidence on fairness in labour relations and rent-sharing. Our model provides a robust explanation for wage rigidity and procyclical effort. It also rationalizes reciprocal behaviour by workers and the observation that firm productivity is a significant predictor of wage setting.